When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 17x, you may consider Tetra Tech, Inc. (NASDAQ:TTEK) as a stock to avoid entirely with its 41.8x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

Recent times haven't been advantageous for Tetra Tech as its earnings have been falling quicker than most other companies. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. If not, then existing shareholders may be very nervous about the viability of the share price.

Does Growth Match The High P/E?

In order to justify its P/E ratio, Tetra Tech would need to produce outstanding growth well in excess of the market.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 4.3%. Even so, admirably EPS has lifted 51% in aggregate from three years ago, notwithstanding the last 12 months. So we can start by confirming that the company has generally done a very good job of growing earnings over that time, even though it had some hiccups along the way.

Looking ahead now, EPS is anticipated to climb by 18% each year during the coming three years according to the seven analysts following the company. With the market only predicted to deliver 10% per year, the company is positioned for a stronger earnings result.

In light of this, it's understandable that Tetra Tech's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Final Word

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

As we suspected, our examination of Tetra Tech's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless these conditions change, they will continue to provide strong support to the share price.

Many other vital risk factors can be found on the company's balance sheet. Take a look at our free balance sheet analysis for Tetra Tech with six simple checks on some of these key factors.

If these risks are making you reconsider your opinion on Tetra Tech, explore our interactive list of high quality stocks to get an idea of what else is out there.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

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